Systematic Pricing and Trading of Municipal Bonds

The Journal of Financial Data Science 4.1 (2022). © [2022] PMR. All rights reserved.

Posted: 9 Aug 2021 Last revised: 22 Nov 2021

See all articles by Petter N. Kolm

Petter N. Kolm

New York University (NYU) - Courant Institute of Mathematical Sciences

Sudar Purushothaman

Foundation Credit

Date Written: August 5, 2021

Abstract

In this article, the authors propose a systematic approach for pricing and trading municipal bonds, leveraging the feature-rich information available at the individual bond level. Based on the proposed pricing framework, they estimate several models using ridge regression and Kalman filtering. In their empirical work, they show that the models compare favorably in pricing accuracy to those available in the literature. Additionally, the models are able to quickly adapt to changing market conditions. Incorporating the pricing models into relative value trading strategies, the authors demonstrate that the resulting portfolios generate significant excess returns and positive alpha relative to the Vanguard Long-Term Tax-Exempt Fund (VWLTX), one of the largest mutual funds in the municipal space.

Keywords: Algorithmic trading, Factor models, Fixed income, Machine learning, Municipal bonds, Pricing models, Relative value, Systematic trading

JEL Classification: C38, C53, C61, E41, G11, G12, H74

Suggested Citation

Kolm, Petter N. and Purushothaman, Sudar, Systematic Pricing and Trading of Municipal Bonds (August 5, 2021). The Journal of Financial Data Science 4.1 (2022). © [2022] PMR. All rights reserved. , Available at SSRN: https://ssrn.com/abstract=3899133 or http://dx.doi.org/10.2139/ssrn.3899133

Petter N. Kolm (Contact Author)

New York University (NYU) - Courant Institute of Mathematical Sciences ( email )

251 Mercer Street
New York, NY 10012
United States

Sudar Purushothaman

Foundation Credit ( email )

745 5th Ave
Suite 1410
New York, NY 10151
United States

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